Regulators in the United States press on in their fight to insulate money-market funds from market panics. Securities and Exchange Commission chair Mary Schapiro and other key federal regulatory leaders proposed substantial reforms for the popular cash-management vehicles on Tuesday.
The proposals were revealed at a meeting of the Financial Stability Oversight Council (FSOC), whose 10 voting members are heads of the financial-services regulatory agencies. The FSOC stepped into the fray over money-market fund reform after Schapiro failed to get SEC commissioners to vote on a prior set of reform proposals last August.
But money-fund sponsors are likely to fiercely oppose these new proposals, which they say could cause corporate treasurers and other investors to abandon money-market funds as part of their short-term cash-investment strategies.
In the document that sets out the new proposals, the FSOC admitted as much, saying the reforms could “directly or indirectly reduce the yield funds offer investors”; cause funds to fall outside board-approved investment policies; and increase costs for fund sponsors, which would then be passed on to investors. Thanks to near-zero interest-rate policies, the current returns on money markets are below the expenses that funds normally charge investors.
But Schapiro and other regulators see money-market fund reform as unfinished business left over from the financial crisis. After Lehman Brothers collapsed, investors pulled $300 billion out of money-market funds in five days, and 31 funds suspended redemptions to stave off the run. Shareholders in two funds had principal losses.
The first alternative presented by the FSOC on Tuesday would require money-market funds to have a floating net asset value (NAV), removing the valuation and pricing provisions that currently allow funds to maintain a stable, rounded $1 per share NAV. Under this provision, corporates and other investors wouldn’t have to analyze a money fund’s portfolio “to surmise the fund’s mark-to-market value,” the FSOC said in its report. In addition, “investors would see day-to-day fluctuations in value in different market conditions and interest-rate environments, just as they do today with all other mutual funds.”
The second proposal would preserve the stable NAV but require funds to set aside 1% of assets as a buffer to absorb day-to-day fluctuations in their portfolio securities. Importantly, the proposal would also require that 3% of a shareholder’s account value in excess of $100,000 be held back from redemption for 30 days.
“The requirement would ensure that an investor who redeems from a money market remains partially invested in the fund for 30 days and would share in any losses that the fund incurs during that time,” the FSOC report said. “This is designed to dampen investors’ incentive to redeem quickly in a crisis, because they cannot entirely avoid imminent losses simply by redeeming.”
Treasury groups have strongly opposed any measure that inhibits them from getting any of their money back in a market crisis.
The third FSOC alternative would require money funds to have a risk-based buffer of 3% as well as more stringent investment-diversification requirements, increased minimum daily and weekly liquidity levels (10% above what current rules require), and more robust disclosure rules.
Schapiro called the floating NAV “the pure option, the simplest option,” and the approach most consistent with how the SEC regulates investment products.
But fund sponsors see nothing new to embrace in the FSOC’s recommendations. “They’re the same old proposals,” says Stephen A. Keen, an attorney in the financial industry group at Reed Smith.
Keen says the money-market fund industry and the three SEC commissioners who opposed Schapiro’s suggestions last August have “already rejected these proposals and discussed them ad nauseam.” They have also “tried to explain they would result in if not the elimination of money-market funds, the shrinking of them into complete insignificance,” he says.
Keen says there is still hope for a resolution of the problem of how to make money-market funds safer. He says the three SEC commissioners whose views clash with Schapiro’s — Republicans Dan Gallagher, Troy Paredes, and Luis Aguilar — continue to talk with asset-management industry representatives. “The industry is not saying there aren’t good ideas that can be pursued, but [those ideas] do not resemble the three put forth by [the] FSOC,” says Keen.
The big question, he says, is that if the ongoing discussions result in proposed reforms that stop short of a floating NAV or additional capital buffers, the FSOC might reject them outright.
While it’s the job of the SEC to regulate money-market funds, at the hearing Tuesday Treasury Secretary Tim Geithner said the FSOC and the Federal Reserve could assume oversight responsibilities if the SEC and the money-fund industry can’t come to an agreement.
The FSOC’s proposal will be out for comment for 60 days, and then the regulatory oversight group — which has broad authority to identify and monitor excessive risks to the U.S. financial system — will make a recommendation.